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Gabelli v. SEC: Fairness Wins, 9-0

Congress has provided that most federal agencies filing civil enforcement actions for penalties, fines or forfeitures must act within five years of the accrual of the government’s “claim,” which generally means within five years of the challenged conduct. In Gabelli et al. v. Securities and Exchange Commission, the Supreme Court considered the issue of whether the SEC could file claims of fraud against an investment adviser after this deadline had passed on the argument that it had not discovered the violation until more recently. Courts sometimes apply a “discovery rule” of this sort to keep alive otherwise-lapsed securities claims by investors and other private parties alleging fraud.

The Cato Institute weighed in with a November amicus brief in support of the petitioner-defendants. As we noted then:

Statutes of limitations exist for good reason: Over time, evidence can be corrupted or disappear, memories fade, and companies dispose of records. Moreover, people want to get on with their lives and not have legal battles from their past come up unexpectedly. Plaintiffs thus have a responsibility to bring charges within a reasonable time of injury so that the justice system can operate efficiently and effectively — and that is doubly so when the would-be plaintiff is the government, with all its tools for investigation and enforcement. …

[After noting strong historical reasons to read the statute as excluding a discovery rule] …even if courts could alter rather than merely interpret the meaning of statutes, there’s no basis for creating a discovery rule for government enforcement actions. Government agencies with broad investigatory powers — indeed, whose purpose is to monitor regulatory compliance — don’t face the same difficulty as private plaintiffs in identifying causes of action which give rise to the discovery rule. Adding a discovery rule to § 2462 would create an indefinite threat of government lawsuits and invite agencies to review decades of past conduct of selectively disfavored companies and individuals — inevitably chilling innocent and valuable economic activity. To preserve individual liberty in the face of an ever-burgeoning regulatory state and ensure constitutional separation of powers, we urge the Court to reverse the Second Circuit’s decision and hold that no discovery rule applies in Gabelli v. SEC.

I’m happy to report that yesterday by a unanimous 9-0 vote the Supreme Court agreed with this view. Chief Justice John Roberts’s reasoning, as summarized by Robert Anello at Forbes, takes note that the rationale for the “discovery rule” exception is to aid private fraud victims who are often unsophisticated, without means of investigating fraud, and seek simply to be made whole as opposed to punishing an opponent.

This is not true of government agencies like the SEC, however. Indeed, the agency’s “central ‘mission’” is to investigate and root out violations of the securities laws and it “has many legal tools at hand to aid in that pursuit.” Because it is always on the lookout for fraud, the agency does not need the benefit of the doubt afforded by the discovery rule.

Further, unlike a private party who is seeking money to compensate them for injuries sustained as a result of the fraud, the SEC seeks to inflict penalties on a defendant. As stated by the Court, the outcome of an SEC action is “intended to punish, and label defendants wrongdoers.” Allowing the SEC to rely on the discovery rule would “leave defendants exposed” to such punishment “not only for five years after their misdeeds, but for an additional uncertain period in the future.” The Court concluded by noting that the types of changes proposed by the SEC could only be made with congressional approval.

Because the five year limitation period also applies to other government agencies in other contexts, the Court’s decision is tremendously important.

A federal agency armed with the power to seek quasi-criminal penalties over stale claims – perhaps even claims from decades earlier – is an agency with too much discretionary power.